One of the greatest challenges for any startup business is securing the financing necessary for day to day operations as well growth. Typically banks are unwilling to finance startup businesses, oftentimes the only way a bank will help with financing is if the founder of the company is able to offer enough if their own personal assets as collateral, and even then the amount of financing offered is very limited. Venture capital is another form of financing that many startup businesses try to acquire, but just like a bank loan it is very time consuming and difficult to secure, and if you can secure venture capital, it comes with many restrictions. However, many young entrepreneurs are unaware that there is another form of financing that is quick, easy, and readily available to startup businesses, that is invoice factoring.
While getting a bank loan or SBA loan is a great way of financing a business, it typically is not an option available to startup businesses. Banks like to look at your track record of what you have done and if they are willing to give you a loan, the amount is based on your company's history. If your company is truly a startup, then you have no history and therefore nothing to base a loan on. If your company has been around for a few years and is now on the verge of growing, it is possible that a bank might consider giving you a loan, but the amount would be based on how much business you had done in the past, not how much business you can potentially do in the future. Of course, the application process for one of these loans is extremely time consuming, and then the bank will take even longer to make a decision, by the time you might actually receive funding you may have already missed your opportunity to grow your business. Really the only way of securing bank financing for a startup would be if the founders of the company can qualify for a home equity loan, and are willing to put up their home as collateral.
Venture capital is oftentimes an appealing option for startups, but again it is something that typically is not readily available for true startups. Anyone who watches the show Shark Tank knows that the sharks always want to see a track record of growing sales before they are willing to invest money in order to take your business to the next level. While you may be able to convince family members to invest in your new business, venture capitalist are taking a very big risk on someone who they don't know to use their money wisely.
If you are able to convince venture capitalists to invest in your business, you still need to be very careful, after all, there is a reason why the call the TV show Shark Tank. Due to the risky nature of venture capital, these "sharks" are going to expect a very high return on investment and you may very well be paying annual interest rates in excess of 50%. They also won't provide you with all of the promised funding until you reach certain benchmarks which may be set at a very high level. Additionally, venture capitalists will most likely tell you how you need to run your business, and should you disagree and try to run your business the way you prefer, the venture capitalists mat oust you from your own company or put your company into liquidation. So accepting venture capital means that you are basically handing over your business to the "sharks".
Rather than putting up your home as collateral or handing over control of your business, a better solution may be turning your receivables into cash. If your business is billing other businesses, whether you are a wholesaler or service provider, most likely your customers are going to be requesting payment terms such as net 30, net 60, net 90, or longer. For many startups, having your capital tied up in receivables is the reason why you need financing in the first place. There are several solutions to this problem.
One popular option is to ask your customers to pay you with a credit card. Not only do you get paid right away with a credit card, but you don't need to worry about not getting paid should a customer go bankrupt or out of business. Of course you will need to pay credit card processing fees which are around 3% for Visa and MasterCard and closer to 4% for Discover and AmEx.
While credit cards may prove popular with small mom and pop businesses who like receiving points or miles on their credit cards, it does have its drawbacks. When you offer net payment terms, it is generally understood that if an invoice is paid a few days late it isn't a very big deal, therefore, most companies tend to take 45 days to pay for a net 30 day invoice. However, with a credit card, when the bill is due it has to get paid or you will get assessed late fees and interest. Your customers of course know this, and if they are relying on your product to sell in their stores in order to pay for it, then they may be hesitant to give you a large order on a credit card or to reorder product as quickly. For your larger customers, including online retailers, national retailers, and regional chains, they will be unwilling to give you a credit card and you will risk losing their business if you stop offering net payment terms. In fact many of these customers will ask for extended payment terms such as net 60, net 90, or even longer.
Another option is to offer your customers early payment discounts. This is typically cheaper than a credit card processing fee, but the drawback is that you don't get paid as quickly. There are several ways that your customers can receive early payment discounts.
One way is to offer your customers 2% 15 net 30 day terms, which means that if they pay within 15 days they can take a 2% discount, otherwise they need to pay the full amount in 30 days. Of course this is a discount that you are offering to your customers, however, in order for them to take advantage of it they would need to have adequate cash flow in order to pay you early. Should they choose to take the discount, they still have 15 days to pay, many companies may hold onto the check for several more days before mailing it, another week for the post office to deliver it, and then several more days for it to clear the bank. So you will still be waiting 25-30 days before your receive payment at a 2% discount, and again only if they choose to take advantage of your offer.
Another option is that many businesses, especially the larger ones, work with supply chain financing such as C2FO. This is very similar to 2% 15 net 30, only this is an offer from your customer to pay you early at a discount. Of course, you are relying on them to offer this to you and typically it takes them a week to enter the invoice into their system and determine whether or not they want to offer you early payment. If they choose to offer you early payment, you then need to offer them a discount which they may or may not accept. If they don't accept it you will then need to offer them a larger discount the following business day in hopes of getting paid early. While you probably will get paid faster than you would with 2% 15 net 30 day terms, most likely you'll be offering them the same 2% discount and of course you are still relying on them to even offer early payment.
However, with both of these options there is risk associated with it. If the company you are selling to goes bankrupt within 90 days of when they pay you, bankruptcy law will require you to return the funds you received to the bankruptcy court unless you can prove that you received these funds in the normal course of business. Given that you offered them a discount to pay you early, you would have a very difficult time proving that you didn't receive preferential treatment from them and you will most likely needs to return the funds. This was an issue with Toys'R'Us who used C2FO prior to their bankruptcy. Their vendors were offering very large discounts, in excess of 25% to get paid early, and those who got funded were required to return those funds to the bankruptcy court.
Many startup businesses have never heard of invoice factoring, but oftentimes it is the best and most affordable way to finance their business. With invoice factoring you are still offering your customers net payment terms, however, your factor will fund you for your receivables the same day you bill your customers. As a result you get funded just as quickly as you would if you took a credit card, but you are able to offer your customers the net payment terms they are requesting. As a result, both you and your customer benefit as you get improved cash flow, and they have more time to pay. Best of all, a factoring fee is pretty much the same as a credit card processing fee so if you can afford to take a credit card, you can afford to factor a net 30 day invoice.
Factoring also comes with another advantage that you don't get with an early payment discount. Your factoring will handle all of your credit checking, collection work, and insure your receivables. And unlike banks or venture capitalists who could take months to make a credit decision, factoring companies work quickly, typically making credit decisions within 30 minutes or even faster. In other words, your factoring company makes offering payment terms just as safe and easy as taking a credit card. Plus you no longer need to subscribe to expensive credit agencies or spend valuable time making collection calls.
Qualifying for factoring is also quick and easy. In most situations you can get your initial funding within 24 hours. Because the factoring company is purchasing your receivables, you are not taking on any debt, your factoring company is extending credit to your customers based on their credit, not yours. As a result, it is very easy for startup businesses to qualify for factoring.
As you can see, there is financing available for startup businesses that is realistic and affordable. If your startup business can benefit from improved cash flow then perhaps you should try invoice factoring. At DSA Factors we have worked with many startups over the years and helped them to grow into larger businesses. We have no minimum volume requirements so no matter how small you are now, we will be able to help you out both now and in the future as your business grows. Give us a call at 773-248-9000 to learn just how easy it is to factor with DSA and get your startup business the financing it needs today!
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